Why Governments Want to Eliminate Cash

Recently, the European Central Bank (ECB)announced that it intends to stop minting €500 notes, in a move that they say is meant to curb fraud and money laundering. The 500 euro note is the second largest denomination currently across the common euro currency zone, and the ECB says that it is the bank note of choice among criminals.

While the stated purpose is to stop financial crime, others have speculated that this move is part of a recent 'war" on cash, with the aim to eliminate physical money from the economy. In a "race to the bottom" to weaken currencies in order to stimulate flagging economies around the globe, we may ultimately see a complete elimination of paper cash in favor of electronic money – not to be confused with digital currency, such as Bitcoin, but rather fiat currencies stored as entries in bank accounts.

The "War" on Cash

Currently, the number of 500 euro bills in circulation represents over €300 billion, or nearly one-third of all the euro denominated cash outstanding. Holding on to physical cash is exactly what negative interest rates, as implemented by the ECB and elsewhere, is meant to dis-incentivize. Because it is relatively easy to hoard cash using €500 notes, eliminating them would benefit the central bank by making it increasingly difficult to avoid the negative interest rate policy (NIRP) mandate. Alternatives to hoarding paper money such as physical assets such as gold are much more cumbersome and costly to store and transfer.

Analysts at Bank of America Corp. (BAC) have also suggested that eliminating high-denomination bank notes can effectively weaken a currency in global foreign exchange markets. Without a high value euro bill, people who want to hold cash (rather than spend it) will trade in their euros for higher denominations in other currencies, like the 1,000 note Swiss Francs or U.S. $100 bills. If this analysis is correct, scrapping high-denomination notes would also serve the ECB's motives of indirectly weakening the currency so as to boost exports and spur economic growth.

Paper money also makes it easy for people to withdraw large sums of money from their banks, which can be a cause of bank runs in a fractional reserve banking system, and was a big problem during the 2008 financial crisis. If banks have to pay negative interest rates persistently to central banks, they will ultimately have to pass this cost on to their customers. If a bank charges you negative 1% interest on your deposits, you are much more likely to withdraw your money in the form of cash. Making it harder to effect those large withdrawals will help stabilize the financial sector in such a case.

The European Central Bank is not alone in this recent "war" on cash. An ex-banking chief in the U.K. has called for a a ban on £50 notes in order to "tackle terrorism," and a former CEO of standard Chartered Bank Peter Sands has gone on the record calling for the $100 bill to be scrapped in America.

Unfortunately, eliminating cash will likely do little to reduce crime as there are multiple ways to circumvent the need for cash, and even worse, cutting off cash may just lead criminal organizations to innovate and use pre-paid gift cards, digital currency, or bank checks to elude law enforcement.

The Bottom Line

The "war" on cash has begun with the European Central Bank's proposal to get rid of the 500 euro note and calls for the elimination of the $100 bill in America. While the argument for the move is that these large bills aid in financial crime and terrorism, the ulterior motive may be to make it harder for banks and consumers to avoid negative interest rates by holding on to actual money.

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